Wednesday, July 30, 2008

Rational Economics: Depends on Your Definition of Rational

There's an interesting piece in The Economist. It seems a financial advice firm was looking for proof that people need their services. The firm placed a man in a sandwich board outside a store. The sign said something to effect "Free five pound notes - just ask." Very few people asked.

The firm says this proves people are not rational decision-makers. I tend to agree with the conclusion of the article; the firm doesn't understand everyone's rationale. I'm not sure I could state unequivocally that I'd walk up to a stranger professing to give away money. How does the character look? (We spend a lot of time teaching our children not to accept gifts from strangers. And if an offer is "too good to be true, it probably is". There's even that old economics joke about the two economists walking down the street, who see a $100 bill in the gutter. One tells the other it isn't real - because if it was it would have been picked up already.) How much of a hurry am I in (time value/time utility)? Do I think I'm going to get hooked into a lecture? Experiments like this are valuable because they give us insights into the decision-making process. I maintain the decisions of every person were rational, whether they asked or not. It was their choice to make and they weighed what they thought might be the costs and benefits. What do you think?


rdan said...

Tim Schilling said...

Your post is very interesting. If I read the post you reference correctly, as well as some of the comments, there's a tendency by some to throw the rationality assumption baby out with the bath water. I believe the assumption is correct, we just don't understand what the motivators are for each person - and quite frankly, if we ever do, that could be reason to be very afraid.

rdan said...

Rationality as espoused by Smith and others was to create a simple idea for to help develop a model of how markets is very mechanistic, suitable for the times, but not meant to replace human behaviors as it seems to be argued in public forums.

Kids have a lot of good notions of a teacher's rationality the day grades are due!

Our comments is an open forum, with no moderating of comments, so can get wild and prickly on occasion. I censor invective and personal attacks, but always provide a comment for why. Hence one picks and chooses by reader.

So far so good however.

rdan said...

Hmmmm...pardon the grammar.

rdan said...

rational actors of today provides a lesson

Tim Schilling said...

Interesting post at naked capitalism, but I would counter his claim about the U.S. having open markets (I believe the term may have been "unfettered.")

The numerous institutions in place (Fannie, Freddie, CRA, DIDMCA), as well as a lack of ability or proper incentive to adequately assess risk (SEC, Moody's, etc.) are, IMHO, an indication that there were impediments in the price setting structure. Add to that, the bailouts are only going to lengthen the process. However, we can't let all those voters be unhappy - regardless of whether they are borrowers, lenders, or someone in between.

Nevertheless, the idea behind this post was to get teachers and students to realize there is more to understanding economic behavior than just assessing money.